Weekend Reading for Financial Planners (August 10-11)

Executive Summary

Enjoy the current installment of "weekend reading for financial planners" – this week’s reading kicks off with a big announcement by the CFP Board this week of some "clarifications" to its compensation disclosure rules, including the removal of the "salary" compensation category and an affirmation that advisors cannot be classified as fee-only if they or their firm merely could receive a commission, even if no client has ever paid one. Other industry news and commentary this week includes a look from Ron Rhoades about whether the Garrett Planning Network is a model of how most fiduciary advisors may be compensated in the future, the latest response from the 401(k) industry regarding Yale professor Ian Ayers’ threat to expose high-cost employer 401(k) plans to the public, and a discussion of some big changes coming to the DFA investment process.

From there, we have a number of practice management articles, including some tips about how to be more quotable as an advisor when talking to the media, a look at how client advisory boards can be executed effectively, some best practices in vetting and screening potential financial planning candidates for your latest job opening, and how to delegate effectively (not just advice that you should delegate, but what you need to do to actually get it done!). We also have a pair of technical articles, including one providing an in-depth review of the File-and-Suspend and Restricted Application claiming strategies for Social Security benefits (and when they work best), and another that discusses planning opportunities for same-sex couples after the Supreme Court decision on the Defense of Marriage Act.

We wrap up with three interesting final articles: the first is from Jason Zweig of the Wall Street Journal about how financial services products that are less liquid or have exit penalties may actually be a positive "precommitment" strategy to help clients stay the course, an insider’s "confession" of the problems in the institutional investing world (with striking parallels to the behaviors of many affluent clients), and a "farewell" message from Investment News technology reporter Davis Janowski who is leaving the publication after six years but shares some interesting perspective on the world of technology for advisors as he moves on. Also included this week is a glimpse at technology consultant Bill Winterberg’s new video edition of his weekly "Bits and Bytes" covering the latest news and developments in advisor technology. Enjoy the reading!

(Editor’s Note: Want to see what I’m reading through the week that didn’t make the cut? Due to popular request, I’ve started a Tumblr page to highlight a longerlist of articles that I scan each week that might be of interest. You can follow the Tumblr page here.)

Weekend reading for August 10th/11th:

CFP Board Makes Change To Compensation Disclosure – This week, the CFP Board conducted a webinar with new guidance regarding proper compensation disclosures for CFP certificants in the aftermath of Alan Goldfarb’s public admonition, and the announcement included a number of material changes and "clarifications" to the rules. The first notable change was that going forward planners will be required to choose from commission-only, fee-only, or commission and fee; the CFP Board is removing the option for "salary" as one of the compensation types on its website (as discussed previously on this blog, it was not clear whether there were any circumstances where "salary" could have been an accurate description anyway given the CFP Board’s rules). The CFP Board’s discussion also emphasized that when considering compensation disclosure, CFP certificants must consider compensation from 3 "buckets" – compensation from clients, compensation from clients to related parties (e.g., the planner’s employer), and compensation from a related party itself; commissions associated with any of these buckets, or that could be associated with these buckets would require a planner to include that compensation type. Accordingly, even if a planner only works with clients on a fee-only basis, if the planners firm could generate a commission from any activity, the planner is required to be classified as commission and fees, not fee-only. The CFP Board did note that these clarifications were tied to the Goldfarb case itself, and a new 4-page compensation disclosure guide has been created for planners to help bring further clarity on this issue in the future.

Has Sheryl Garrett Invented An RIA Future Of Attorney-Like Comp? – From RIABiz, this article by Ron Rhoades reviews the recent Garrett Planning Network conference, and whether the Garrett model (where advisors are generally compensated on an hourly basis with no minimums) is setting a template for how most advisory firms will operate in a client-centric fiduciary future. The Network has attracted advisors from all walks, from former wirehouse advisors to new advisors starting from scratch, who obtain initial clients from Garret’s "Find an advisor" consumer program until they ultimately have worked with enough people that their clients can generate enough referrals. GPN planners report that they feel well compensated for their time, though notably GPN planners are only averaging a 36-hour workweek, and are generating professional-level compensation from their client referral flows and a highly efficient service model (as there’s little overhead in a purely hourly advice model). Rhoades notes that this is very similar to the current landscape for CPAs and attorneys, who – like GPN planners – are fiduciaries to their clients, generally work as sole proprietors or in small firms, and charge hourly and project fees. About 20% of GPN members do charge AUM fees as well, though many report that they prefer hourly-based fees to avoid any potential AUM conflicts of interest. On the other hand, Rhoades notes that hourly planners face a unique conflict as well – that advisors can be incentivized to stretch out an engagement and make problems seem unusually complex, to justify more hours of work, and that in general hourly fees can actually result in greater reward for inefficient and time-consuming planning; in turn, some planners offer clients flat fees to try to manage this concern. The bottom line, though, is that even as Wall Street continues to claim that "small clients" cannot be served in a fiduciary model, GPN advisors have already been doing so, effectively, efficiently, and profitably, and often at a total cost that is lower than the embedded fees and costs inside of traditional proprietary products.

ERISA Attorneys Rip Yale Professor’s Fiduciary Threats – The big news in the 401(k) world last week was the announcement by professor Ian Ayers of Yale that he would publicize employers with "potentially high-cost plans" in a manner that suggested that might be breaching their fiduciary duties, based on data that Ayres had collected from BrightScope and the Department of Labor Form 5500 filings from 2009. This week, a group of ERISA lawyers from the prominent Drinker Biddle & Reath, led by partner and recognized ERISA expert Fred Reish, fired back with an open response letter to the 401(k) community debunking many of Ayres’ claims, especially regarding fiduciary breaches. The primary issue and criticism of Ayres’ work was that the information was dated from December 2009 and may not take into account recent cost changes in the 401(k) industry, failure to consider plan design differences and services related to costs, failure to evaluate revenue-sharing, and an apparent overreliance on Form 5500 filing. As Reish notes, even the Government Accountability Office acknowledges that Form 5500 is not intended as a comprehensive database of plan fees. Furthermore, Ayres’ approach benchmarked all plans against Vanguard index funds, and while the use of more expensive actively managed funds may be controversial to some, Reish notes that using actively managed funds pursuant to a reasonable selection process is not automatically a breach of fiduciary duty. Ayres has since "backed off "his original stance that he would publicize details of individual companies in major newspapers and via Twitter, though Ayers does still intend to publish his overall study of 401(k) costs and fees based on the 2009 data.

Sweeping Changes Under Way At DFA – For the first time in over 20 years, DFA is making a significant change to how it builds equity portfolios. Long known for its academically based approach that tilts portfolios towards small-cap and value stocks, DFA is now adding a factor to screen for the persistence of a company’s profitability. The challenge in the past was that measures like earnings-to-price were too volatile in DFA’s view to be an effective predictor, but their latest research has found that measuring earnings-to-assets or earnings-to-book and overweighting accordingly leads to a material improvement in results, comparable to the benefits of a value tilt (and even better when the two are combined together). The new profitability screening will be rolled out across the entire lineup of funds going forward, though there is no set timetable for implementation yet, as DFA wants to be certain the changes are well communicated first. For advisors who want some exposure to this factor in the nearer term, DFA did launch two standalone funds last year that offer pure exposure to the profitability screen, which advisors can mix into their client portfolios.

How To Be Quotable: 9 Tips For Advisors – From Marie Swift’s blog on Financial Planning, this article provides some great tips about how to respond effectively to journalists and boil your key points down to sound bites. While many advisors may not like being forced to condense their message in this manner, from the journalist’s perspective there is a very limited amount of time and space to convey a story, so the most concise and memorable interview responses are the ones they can best use to complete the story and capture the attention of their audience. In fact, advisors who are most effective at delivering such sound bites are the ones that tend to get repeat "press requests" from journalists looking for sources (as a good "go-to" contact for a journalist is an asset they like to use!). So what are Swift’s tips for being more quotable? They include: Think and speak in tweets (in other words, don’t say in 10 sentences what can be said in just 1 or 2 {or 140 characters!}); be specific and colorful (bringing statistics to life conveys a much more interesting picture than just talking stats alone!) or better yet tell a short story (but really keep it short!); have a definitive point of view (wishy-washy may sound balanced and professional, but journalists are usually looking for opinions, and you’re not contributing much if what you say never elicits any commentary or debate!); use metaphors, or even try to repeat or rhyme (it may sound silly, but it works!); and don’t be afraid to practice your comments and talking points out loud to yourself before you call the reporter back to do the interview, as the practice will help you sound more natural in your conversation.

The Magic Of Client Advisory Boards – In Financial Advisor magazine, Roy Diliberto discusses how he has used a Client Advisory Board in his practice for the past 15 years. The client advisory board is a fairly formal structure in Diliberto’s firm, consisting of 9 clients who serve staggered three-year terms; clients are not compensated for their involvement, but no client has ever refused to serve when asked, and ultimately Diliberto does provide clients with monthly enrollment in a "Health Advocate" program from the firm (a service that helps people navigate issues they may have with doctors, insurance claims, etc.), and upon completion of their service clients also receive a nice leather-bound portfolio. The client advisory board meets twice a year at the Four Seasons Hotel, with meetings starting at 10AM and lunch served around 12:30PM. The composition of the board is deliberately varied amongst the client base, from professionals to retirees to business owners to doctors and lawyers and more. So what kinds of questions does Diliberto bring before his client advisory board? One example was determining what kind of quarterly reports to deliver to clients; Diliberto’s firm generated samples of several different options, sent it to the advisory board for review in advance of the meeting, and during their time together they culled the list down to the version that Diliberto’s irm still uses today. Other areas for feedback have included the firm’s marketing brochures and whether they connected to prospective clients and accurately conveyed the services of the firm (especially as the firm shifted to a life planning focus), a re-design of the firm’s website, and the balancing of schmoozing and substance at client review meetings.

The Art and Science of Candidate Screening – From the New Planner Recruiting blog, this article provides some guidance on how to screen a potential financial planning hire, based on recruiter/consultant Caleb Brown’s own experience in hiring new planners for advisory firms. Key tips and techniques include: Don’t settle for just submitted a standard resume, and instead ask for them to go through some additional steps (this both measures the strength of interest the candidate has in the position to go beyond the minimum, and also is a good way to see who really follows directions!); conduct an initial interview via phone or video chat to get a sense of their communication style (and have them call you at a specified time to see if they are organized and timely); don’t just take their word that they’re "proficient" or "expert" at Microsoft Office or other software, make sure you give them something to test their skills and make them prove their abilities; similarly, don’t just trust that they know their financial planning "stuff" because they graduated from a CFP Board registered program, try giving them a timed exercise to test their knowledge (and their ability to produce under time pressure); for finalist candidates, consider having them do at least a partial sample financial plan (using your software) to understand their current capabilities; consider a personality or conative (work style) assessment tool like DISC or Kolbe (but if you’re going to use a personality profile, use it fairly early in the process as a screening tool and don’t wait so long that you’ve already made up your mind by the time you give the assessment); and when you go through a final interview process, make sure you bring up any weaknesses that were uncovered in the preceding steps, as no candidate is likely to be "perfect" but you should be comfortable that the candidate will be able to grow through their weaknesses. Beyond all else, though, try to find new planners who have a passion for the financial planning profession, as they are the ones most likely to stick with their career and your firm in the long run; on the plus side, those are also the ones most likely to go through a thorough screening process.

The Price You Pay For Poor Management – This article by Bob Veres on Advisor Perspectives is about delegating work more effectively, but seeks to go beyond the standard advice that all advisors have heard, that they should "simply" delegate any tasks that can be assigned to a staff member for less cost than the economic value of the advisor’s time. Instead, Veres interviews business consultant Spenser Segal of ActiFi, who notes that in practice delegation is not just a one-step process, but instead requires a somewhat more involved three-step process necessary to truly get to the point where you can hand off some nitty-gritty tasks. The first step is just to effectively inventory all the different tasks and activities that happen around the office, from what’s involved in preparing for an annual meeting with a client to what you do when onboarding a new client. The caveat, though, is that such lists of tasks rarely go into the depth necessary to really identify what can be delegated or not, so Segal suggests that a second layer of depth is necessary, where you really identify exactly what individual activities are involved; for instance, doing an annual review for a clietn might include checking the client’s data in the database, identifying if there is missing data, contacting the client to get updated data, scheduling the meeting with the client, reviewing and finalizing the case, printing the materials, etc. With this level of specificity, it starts to become clearer what could feasibly be delegated, and to whom (as different tasks might go to different staff members with different skillsets), and also allows for you to start identifying a timeline for the process as well (who has to do what, by when, to ensure the next person can do the next step in the process in a timely manner). At this point, it’s still not time to delegate, though; the third step of the approach is to define the standards of excellence, or articulate how the task should be done and to what level, to ensure the desired outcome. For instance, if a staff member is supposed to update missing data fields and contact the client, which data fields are most important, how urgently do you contact the client, and how long do you wait for a response before following up again (while you might know this intuitively, the staff you’re delegating to does not!). This last step is perhaps the most important key, as ultimately for most advisors the biggest fear in delegating is that they may still be accountable for an outcome they’re not involved with, but defining and articulating standards helps to ensure that staff will live up to the advisor’s expectations (and also becomes a living procedures manual for the firm that makes it easier to handle growth and reassigning delegated tasks in the future!).

Understanding Unusual Social Security Claiming Strategies – From the Journal of Financial Planning, this article delves into the "File and Suspend" and "Restricted Application" Social Security rules, which the article dubs "Claim and suspend" and the "Claim now, claim more later" strategies. The Claim and suspend strategy applies where an individual claims Social Security retirement benefits but then suspends them, to allow the spouse to claim a spousal benefit; the claim now, claim more later strategy occurs when an individual initially claims just a spousal benefit while delaying his/her own individual worker benefit until later to generate delayed retirement credits. These strategies both require that the individual applying for them be full retirement age at the time, and were added under the Senior Citizens’ Freedom to Work Act of 2000. The claim and suspend strategy fits especially well with research that shows for married couples, the optimal strategy is often for the higher earner to delay as long as possible but for the lower earner to start as early as possible; accordingly, claim and suspend allows the higher earner to continue earning delayed retirement credits even while the spouse begins his/her spousal benefit. However, the research also notes that in practice, the average gain for implementing this strategy is fairly modest. On the other hand, the claim now, claim more later strategy has a much greater impact, though in a surprising way; while early on it was expected the strategy would be used primarily to allow a wife to obtain a spousal benefit while delaying her individual benefit to age 70 (while the husband was already delaying his benefit), the results suggest instead that the most commonly effective approach is for the (usually younger) wife to start benefits as early as possible, for the husband to delay to age 70, and for the husband to file a restricted application to gain his spousal benefit based on his wife’s earnings. The strategy is most effective for dual earner couples, and the greater their overall benefits, the greater the value to the strategy. Notably, while these strategies can be effective for financial planning clients, the researchers point out that it will have an impact on the Social Security system, estimated at $0.5B/year for claim and suspend, and $9.7B/year for claim now, claim more later over the otherwise optimal strategies (and the cost is even higher compared to the current typically-inefficient claiming strategies many couples use), which does present at least some risk that the rules will be made more restrictive again in the future to help reduce Social Security shortfalls.

Big Changes For Gay Clients – This article reviews some of the important recent changes to planning for same-sex couples as a result of the Supreme Court’s decision to strike down a key provision of the Defense of Marriage Act (DOMA) last month. With Federal recognition of same-sex marriage in at least some states, there may be an increase in the number of same-sex couple clients looking to get married, but the challenge remains that the Supreme Court ruling did not mandate same-sex marriage nationwide, nor did it force states that don’t allow such marriages to recognize marriages that occurred in other states. Given that there are only 13 states that permit and recognize gay marriages, couples run the risk of ending out in a situation where the marriage is not recognized by a current state (if they move) and may or may not be recognized by the Federal government as well. Accordingly, the article suggests that planning for such couples should focus on redundant strategies to provide additional protections in case the couple ends out in an unfriendly jurisdiction, including signing a domestic partnership agreement, having a formally drafted Will (don’t just rely on same-sex spousal rights under state intestacy laws), owning property titled as joint with rights of survivorship, and maintaining a current health care proxy. Of course, it’s also important to be sensitive to the needs of a same-sex couple client; just because the couple can get married now does not necessarily mean they wish to do so, whether for their personal wishes, because they’re concerned about financial implications (e.g., having stepparent assets listed on student financial aid applications), or because they wish to adopt (as some states and countries are hostile to adoptions by gay couples).

Can You Be Bound For Glory? – In the Wall Street Journal, Jason Zweig takes an interesting look at some recent research on "precommitments" (a topic previously discussed on this blog) which finds that people who lock themselves into decisions or a plan are better able to stay the course than those who rely on willpower alone. The classic example is Ulysses, who asked to be tied to the mast to resist the song of the sirens, but the concept is equally relevant to the financial world, for instance by selecting mutual funds with redemption fees (to discourage short-term trading) or CDs with early withdrawal penalties. While such tools – early withdrawal fees and penalties, surrender charges, etc. – are often viewed negatively by financial planners, the research notes that not only can such techniques be effective for help clients stay the course, but the research actually found for many people the decision to use such precommitment strategies is actually viewed positively. In other words, brain scans of some study participants showed that their decision to protect themselves from their own risk of being weak-willed by engaging in precommitment strategies didn’t engage negative thoughts around the penalties, but actually activated the reward centers of their brains as they placed subjective value on their own self-control mechanism! Accordingly, Zweig suggests several relatively straightforward precommitment devices to consider, but engaging in an automated dollar cost averaging plan, to signing an investment contract (witnessed by family and friends who will hold you accountable) that stipulating how long you’ll hold your investments, or crafting a checklist that spells out the only conditions under which you would sell.

Confessions Of An Institutional Investor – From the Reformed Broker blog, this article is written by an institutional investor who takes an inside-out look at the flawed problems of how institutional investing is currently done, in particular given the increasing focus in recent years on institutions taking such a focus on complex downside-risk models are in the process are loading up 50% to 70% of portfolios into alternative investments that may be a recipe for disaster. The issues aren’t just about high fees, poor performance, leverage, and the lack of transparency, but also the liquidity (not just the 90-day notices, limits to quarterly or annual redemptions, but also a 10%-20% holdback that amounts to having a portion of the money stuck in cash earning nothing for up to a year, or the risk of a four-year wind down if a hedge fund shuts itself down!). Given the problems with hedge funds, institutions are diversifying more widely amongst them, but in turn that may just be increasing the likelihood of picking mediocre funds, including some with extraordinary costs (8% management fee plus 30% profits!?). Direct private equity may be more appealing, but it too has challenges, given that it may take years or even a decade just to get fully invested, and the capital calls when it is time to invest often come with short notice, creating liquidity challenges just to get into the investment (and also creating exorbitantly high fees in the process, as fees are often charged on committed capital, not invested capital!). So given all these problems, why do institutions invest this way? The author suggests three primary reasons: 1) it’s more interesting (jet setting for "due diligence" trips with private managers around the world who wine and dine, or just broadly diversifying in index ETFs?); 2) institutional investors think it’s their job to try to outperform (rather than to just ensure that the institution achieves its growth goals, manage fees, ensure liquidity, and focus on the long time horizon) and even the boards that oversee them are sometimes complicity in chasing the institutional herd mentality; and 3) they assume that complex must be better, as highly educated individuals running institutional portfolios have trouble admitting the simple solution might be best. Illiquidity might give the chance to outperform, but it carries the obligation to pay higher fees, and eliminates the chance for opportunistic rebalancing during periods of increased volatility. Ironically, the author notes that most institutional investors have an offshoot of David Swensen’s "Yale Model" based on his book, despite the fact that while Swensen does use alternatives and active management from time to time, the book itself warns about the game of active management and the allure of "glamorous, exciting (and ultimately costly) hope of market-beating strategies at the expense of reliable, mundate certainty of passive management." While written in the context of institutional investing, I suspect many planners will find this discussion resonates equally well with the behavior and tendencies of many of their own clients as well.

A Tech Reporter’s Farewell – Advisor technology reporter Davis Janowski of Investment News has announced that he’s leaving after 6 years, and in this articles shares some of his parting words and thoughts for the financial financial planning after following it and commentating on it for years. Janowski starts by noting how fractured the landscape of advisor technology really is; many of the tools are stories of "mom-and-pop pioneering" (solutions that one advisor created for themselves, and then ultimately sold to other advisors), and overall the advisory industry is too small to regularly attract serious outside interest from the broader technology world, leading to a lot of legacy tools that have had little innovation in years (e.g., portfolio reporting software). To move the industry forward, Janowski puts out three challenges to advisors going forward: 1) "get better organized to gain leverage" and use the clout of membership associations like FPA and NAPFA to force big firms to the table to create some advisory industry technology standards and more consistent use (which may also mean no longer accepting money and sponsorship from those companies to escape being beholden to them); 2) "be less greedy" as Janowski notes that advisors are so focused on the upper echelons of the wealthy and not enough on the middle class (a notable concern, as Janowski is moving on to work at Wealthfront, an online investment management firm gearing up to provide solutions to that underserved market); and 3) "hug a small third-party provider" as Janowski notes that advisors often strain their own small mom-and-pop technology providers by pushing their customer support beyond the scope of just the tools themselves to the point that they’re financially stressing the very companies upon which they’re so reliant. Which some of Janowski’s comments will no doubt be a bit controversial, as a relative "outsider" – Janowski came to Investment News after 10 years at PC Magazine – he perhaps has an especially good perspective on some of the things that are broken and need to be fixed in the advisory technology world. In the meantime, though, the advisory world is sadly losing one of its key reporters and commentators on financial advisor technology.

In the meantime, if you’re interested in more news and information regarding advisor technology I’d highly recommend checking out Bill Winterberg’s "FPPad" blog on technology for advisors. You can see below his new Bits & Bytes weekly video update on the latest tech news and developments, or read "FPPad Bits And Bytes" on his blog!